Ruling clears way for Scottish fiscal autonomy

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by James Aitken, Law and Legal Affairs Editor

Late last week a legal opinion from the European Court of Justice again confirmed that low corporation tax rates should not be challenged on the grounds that they are illegal under the European Union’s State Aid legislation.  The latest opinion again involved Gibraltar.

The background to this is a number of European Court of Justice cases brought by the European Commission.  The European Commission continue to argue that having a low tax regime within part of a member state of the European Union breaches the law against State Aid.  Specifically it argues that this constitutes an unfair advantage and distorts competition.  For almost ten years the European Commission have fought and lost cases concerning the Azores, the Basque Country and Gibraltar on this issue.

The state aid rules were also put forward by the opponents of greater fiscal powers for the Scottish Parliament.  Now even the Calman Commission accept that if the rules outlined below are followed then a devolved administration such as Scotland can have its own tax system.

The rules set by the European Court of Justice in these cases are:

  • The devolved administration has its own constitutional, political and administrative status separate from that of the central government; and
  • The tax reform has been devised without the central government being able to intervene as regards its specific content; and
  • The financial consequences of any reduction are not offset by subsidiaries from the central government.

The European Court of Justice has also considered whether the degree of autonomy enjoyed by the devolved administration is an issue.  The European Commission have tried to argue that the devolved administration had to have a degree of autonomy similar to that of the central government.  In other words de facto independence.  In an earlier ruling in the case involving Gibraltar the European Court of Justice rejected this argument and ruled that Gibraltar was sufficiently autonomous from the UK to justify being its own frame of reference.  Despite the UK’s residual power to legislate for Gibraltar the UK was not able to intervene directly over Gibraltar’s tax measures.

That means that the Scottish Parliament meets the first of these rules.  There is also little difficulty in meeting the second and third of these criteria when devolving fiscal powers to the Scottish Parliament.

Last week’s decision was of course widely reported in Ireland but not here.  This opinion, if followed by the European Court of Justice in its full ruling expected later this year, could have implications both for Ireland’s corporation tax rates and the possibility for a new rate for Northern Ireland.

The advocate general, Niilo Jaaskinen, said last week: “The rules on State Aid cannot be used to combat the phenomenon of harmful tax competition between member states.  The measures to deal with harmful tax competition fall within the field of direct tax policy.”  It is also worth noting that he uses the term “harmful” in this context.

Two other comments which show how important this opinion is:

Fine Gael MEP Gay Mitchell said: “It strengthens Ireland’s case against those who criticise our 12.5% corporation tax rate.  These are matters for member states, even though the Gibraltar case is a regional matter it underlines the rights of member states in this area.  It also indicates special treatment of Northern Ireland for corporation tax purposes probably could be introduced.”

British Conservative MEP for Gibraltar Giles Chichester described the news as: “A breath of fresh air and a boost to Irish efforts to fend off pressure from Brussels to raise its corporate tax rate.”

What is the “pressure” referred to by Giles Chichester?

The French finance minister Christine Lagarde announced recently that Ireland will be required to raise its 12.5 per cent corporate tax rate to match the rest of the euro zone.  She went even further when she said:  “There clearly shouldn’t be tax competition between member states.”  Further comments show that France and Germany aim is to link this issue with the rate of interest on the loans made recently to Ireland by the European Union.

The Irish are resisting.  The lower rate of corporation appears to have become part of the Irish psyche.  The outcome of this battle may go a long way in deciding whether we see a unified system of European taxation.

That brings us to a question I was asked last week: “How serious should we take George Osborne when he announced a further review on a possible lower rate of corporation tax in Northern Ireland?”  I would argue not very.  Firstly it is a “further” review.  Why do we need a further review when there is almost universal support for this in Northern Ireland?  I also suspect George Osborne is all too aware as to how much pressure Ireland is under just now.

At least Northern Ireland and the Republic of Ireland are part of this debate.  What about Scotland?  No mention of a similar review for Scotland in the Budget.  The example of the joint campaign by all of the Northern Irish political parties and its business organisations shows how easy it would have been for the Calman parties to have argued for, and have won, further tax and fiscal powers for Scotland.

That said, the Scottish Parliament’s Scotland Bill Committee did recommend that corporation tax be devolved if this happened in Northern Ireland.  Derek Brownlee, a likely Scottish Tory leadership contender, has also come out in favour of this recently.  Not exactly a ringing endorsement but evidence of further glacial movement.

The stand-off between Ireland and countries like France and Germany over Ireland’s 12.5% corporation tax rate, the possibility of some restricted corporation tax powers for Northern Ireland and last week’s opinion from the European Court of Justice shows how wide ranging the fiscal powers debate has become.  What happens next as far as Scotland is concerned will largely depend on what happens here on the 5th of May.